Contents

There is little doubt that the observation that quality may depend on price (productivity on wages; default probability on interest rates) has provided a rich mine for economic theorists: A simple modification of the basic assumptions results in a profound alteration of many of the basic conclusions of the standard paradigm. The Law of Supply and Demand has been repealed. The Law of the Single Price has been repealed. The Fundamental Theorem of Welfare Economics has been shown not to be valid.
More than that, the theories that we describe here provide the basis of progress toward a unification of macroeconomics and microeconomics. They pro vide an explanation of unemployment and credit rationing, derived from basic microeconomic principles. It is a theory in which the extensive idleness that periodically confronts society's resources, human and capital, is seen as but the most obvious example of market failures that prevasively and persistently distort the allocation of resources.

"The Causes and Consequences of The Dependence of Quality on Price", Journal of Economic Literature, Vol. 25, No. 1 (Mar., 1987)

Most poor people earn more than minimum wage when they are working; their problem is not low wages. The problem comes when they are not working.

Economics (1993).

The reason that the invisible hand often seems invisible is that it is often not there.

They [free market policies] were never based on solid empirical and theoretical foundations, and even as many of these policies were being pushed, academic economists were explaining the limitations of markets — for instance, whenever information is imperfect, which is to say always.

It's actually a tribute to the quality of economics teaching that they have persuaded so many generations of students to believe in so much that seems so counter to what the world is like. Many of the things that I'm going to describe make so much more common sense than these notions that seem counter to what ones eyes see every day.

The theories that I (and others) helped develop explained why unfettered markets often not only do not lead to social justice, but do not even produce efficient outcomes. Interestingly, there has been no intellectual challenge to the refutation of Adam Smith’s invisible hand: individuals and firms, in the pursuit of their self-interest, are not necessarily, or in general, led as if by an invisible hand, to economic efficiency. The only question that has been raised concerns the ability of government to remedy the deficiencies of the market. Within academia, a significant fraction of economists are involved with developing and expanding on the ideas of imperfect information (and imperfect markets) that I explored. For instance, Edmund Phelps, this year’s Nobel Prize winner, belongs to this "school" of thought. But in political discourse, simplistic “market fundamentalism” continues to exert enormous influence.

The top 1 percent have the best houses, the best educations, the best doctors, and the best lifestyles, but there is one thing that money doesn’t seem to have bought: an understanding that their fate is bound up with how the other 99 percent live. Throughout history, this is something that the top 1 percent eventually do learn. Too late.

1. The standard neoclassical model the formal articulation of Adam Smith's invisible hand, the contention that market economies will ensure economic efficiency provides little guidance for the choice of economic systems, since once information imperfections (and the fact that markets are incomplete) are brought into the analysis, as surely they must be, there is no presumption that markets are efficient.
2. The Lange-Lerner-Taylor theorem, asserting the equivalence of market and market socialist economies, is based on a misguided view of the market, of the central problems of resource allocation, and (not surprisingly, given the first two failures) of how the market addresses those basic problems.
3. The neoclassical paradigm, through its incorrect characterization of the market economies and the central problems of resource allocation, provides a false sense of belief in the ability of market socialism to solve those resource allocation problems. To put it another way, if the neoclassical paradigm had provided a good description of the resource allocation problem and the market mechanism, then market socialism might well have been a success. The very criticisms of market socialism are themselves, to a large extent, criticisms of the neoclassical paradigm.
4. The central economic issues go beyond the traditional three questions posed at the beginning of every introductory text: What is to be produced? How is it to be produced? And for whom is it to be produced? Among the broader set of questions are: How should these resource allocation decisions be made? Who should make these decisions? How can those who are responsible for making these decisions be induced to make the right decisions? How are they to know what and how much information to acquire before making the decisions? How can the separate decisions of the millions of actors decision makers in the economy be coordinated?
5. At the core of the success of market economies are competition, markets, and decentralization. It is possible to have these, and for the government to still play a large role in the economy; indeed it may be necessary for the government to play a large role if competition is to be preserved. There has recently been extensive confusion over to what to attribute the East Asian miracle, the amazingly rapid growth in countries of this region during the past decade or two. Countries like Korea did make use of markets; they were very export oriented. And because markets played such an important role, some observers concluded that their success was convincing evidence of the power of markets alone. Yet in almost every case, government played a major role in these economies. While Wade may have put it too strongly when he entitled his book on the Taiwan success Governing the Market, there is little doubt that government intervened in the economy through the market.
6. At the core of the failure of the socialist experiment is not just the lack of property rights. Equally important were the problems arising from lack of incentives and competition, not only in the sphere of economics but also in politics. Even more important perhaps were problems of information. Hayek was right, of course, in emphasizing that the information problems facing a central planner were overwhelming. I am not sure that Hayek fully appreciated the range of information problems. If they were limited to the kinds of information problems that are at the center of the Arrow-Debreu model consumers conveying their preferences to firms, and scarcity values being communicated both to firms and consumers then market socialism would have worked. Lange would have been correct that by using prices, the socialist economy could "solve" the information problem just as well as the market could. But problems of information are broader.

There must have been something in the air of Gary that led one into economics: the first Nobel Prize winner, Paul Samuelson, was also from Gary, as were several other distinguished economists... Certainly, the poverty, the discrimination, the episodic unemployment could not but strike an inquiring youngster: why did these exist, and what could we do about them.

My teachers helped guide and motivate me; but the responsibility of learning was left with me.

In debate, one randomly was assigned to one side or the other. This had at least one virtue — it made one see that there was more than one side to these complex issues.

The notion that every well educated person would have a mastery of at least the basic elements of the humanities, sciences, and social sciences is a far cry from the specialized education that most students today receive, particularly in the research universities.

The best teachers still taught in a Socratic style, asking questions, responding to the answers with still another question. And in all of our courses, we were taught that what mattered most was asking the right question — having posed the question well, answering the question was often a relatively easy matter.

I, like many members of my generation, was concerned with segregation and the repeated violation of civil rights. We were impatient with those (like President Kennedy) who took a cautious approach. How could we continue to countenance these injustices that had gone on so long? (The fact that so many people in the establishment seemed to do so — as they had accepted colonialism, slavery, and other forms of oppression — left a life-long mark. It reinforced a distrust of authority which I had had from childhood).

There was an incongruity between many of the models that we were taught and the policy positions that our teachers (and we) believed in. The models seemed more consonant with free market prescriptions, though they were presented more as benchmarks rather than full characterizations.

Once I undertook the analysis of a problem, I often looked at it from a variety of perspectives. I approached the problem as a series of thought experiments — unlike many other sciences, we typically cannot do actual experiments.

If stability and efficiency required that there existed markets that extended infinitely far into the future — and these markets clearly did not exist — what assurance do we have of the stability and efficiency of the capitalist system?

Economists often like startling theorems, results which seem to run counter to conventional wisdom.

An early insight in my work on the economics of information concerned the problem of appropriability — the difficulty that those who pay for information have in getting returns.

I recognized that information was, in many respects, like a public good, and it was this insight that made it clear to me that it was unlikely that the private market would provide efficient resource allocations whenever information was endogenous.

Seeing an economy that is, in many ways, quite different from the one grows up in, helps crystallize issues: in one's own environment, one takes too much for granted, without asking why things are the way they are.

Growing up in Gary Indiana gave me, I think, a distinct advantage over many of my classmates who had grown up in affluent suburbs. They could read articles that argued that in competitive equilibrium, there could not be discrimination, so long as there are some non-discriminatory individuals or firms, since it would pay any such firm to hire the lower wage discriminated-against individuals, and take them seriously. I knew that discrimination existed, even though there were many individuals who were not prejudiced. To me, the theorem simply proved that one or more of the assumptions that went into the theory was wrong.

My final criticism is that Stiglitz's book is carelessly written. Stiglitz was—and perhaps still is—an outstanding economic theorist. But he has been producing big, loosely argued books. The laudable aim behind them is to inform a broader audience about economic policies that could make the world a better place, certainly with better lives for the poor, and such advocacy has its place in moving people to action. But he lacks the eloquence, urgency, and passion of the preacher, while he has too often abandoned the rigor of the scientist. In my view, he has not yet found a style suitable to the popular exposition of his economic ideas.

Robert Skidelsky, "Gloomy about Globalization", New York Review of Books (April 17, 2008).